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Automotive lenders treading on thin ice with subprime loans

Over the past couple of years, lenders that finance automobile loans have been accepting borrowers with lower credit scores — including some with no established credit. When this happened in the housing market, it was called “subprime” lending and resulted in a collapse of the economy.

In a recent report, Fitch Ratings said the 60-day delinquency rate on securitized subprime auto loans was at the highest level since 1996.  Exeter Finance, which purchased a $300 million bundle of loans last October, found the average borrower credit score was 573, and 6.6 percent of the loans purchased were made to borrowers who had no credit score at all.  According to Fitch, in February 5.16 percent of securitized auto loans were at least 60 days past due.

“There is a lot of competition in the industry, which is why many lenders have lowered their underwriting standards,”  said Kevin J. Bambury, attorney, Jeffrey Freedman Attorneys, PLLC. “This is not a good sign for the economy.  We have to remember, however, that automotive lending doesn’t have anywhere near the ripple effect of mortgage lending.”

At the height of the subprime mortgage lending curve in 2006, lenders took on $600 billion worth of risky mortgages. According to credit rating firm Experian, the automotive industry had $205 to $388 billion (depending on the standards used) in subprime auto loans at the end of 2015.

“Automobile lenders have been extending the terms of their loans up to 72 months to make it easier for buyers to make monthly payments,” Bambury said. “Buyers who take on loans with longer terms are taking the risk of owning a vehicle that isn’t worth as much as the amount they still owe on it after making payments for a few years.”

In recent years several new automotive lenders have entered what appeared to be a very attractive market, however, with delinquencies rising, some of the new kids on the block will inevitably suffer high losses that could cause them to go under.

“The average car buyer should be aware of the down side of these riskier loans,” Bambury said.  “If the deal looks too good to be true, it probably is too good to be true.  You’re going to end up paying more in interest, and you could end up with a car that’s not worth what you still owe on it after three or four years.

“And what happens if your lender goes under?  Risky loans are risky business for everyone involved.”